The outlook for Hong Kong equities following the recent rally

Since reaching a trough in January, the Hang Seng Index is up by nearly a quarter, the H-shares index – for mainland companies listed in Hong Kong – has risen by about 30% and MSCI China is up by nearly 20% in US dollar terms.¹

Recent economic indicators are encouraging. First-quarter growth was better than expected, and tourist arrivals over the Labour Day “golden week” holiday show the city is still appealing.

The economic environment in China and the US is also supportive. The recent FOMC meeting underscored the US central bank’s continued easing bias, and there was positive news from Beijing’s Politburo meeting for further stimulus and regulatory support for the offshore market.

There also appears to be a rotation out of popular but crowded investment themes such as artificial intelligence, Taiwan, Japan and the US markets into better-value propositions and cheaper stocks.

It makes sense that Hong Kong stocks are getting attention. Even after the year-to-date rally, H-shares continue to trade at an over 40% discount to their A-share peers.²

More mainland capital driven into Hong Kong’s stock market

Last month, the China Securities Regulatory Commission announced a raft of supportive policies including an expansion of the Stock Connect scheme. This should drive more mainland capital into Hong Kong’s stock market and help close the valuation gap.

Southbound Connect flows have averaged 37 billion yuan (US$5.1 billion) daily over the past month, up meaningfully from 25-30 billion yuan over the past 12 months.³

Going forward, I believe that the rally will be driven not by this type of tactical near-term liquidity boost, but by the bigger questions on whether China’s economy can continue to accelerate and whether foreign investors, long on the sidelines, could step back in.

Foreign investors recognise that the Hong Kong market is uniquely affected by geopolitics and US-China relations.

With some geopolitical issues unresolved, international capital flows to Hong Kong could remain tactical, especially as the outcome of the US presidential election remains uncertain.

Our analysis has shown that politics is, more often than not, “noise” when it comes to making investment decisions.

Fundamentally, I’m much more optimistic that Chinese growth can bolster the market in the longer term and convince domestic and international capital to pivot from a tactical to a more longer-term allocation.

A sustained drumbeat of recent positive indicators including GDP, PMI and export figures have been encouraging.

Consumer indicators could be the next catalyst

The next major catalyst for Hong Kong stocks will come from consumer indicators, and here we may have some good news.

Preliminary consumer data on Chinese travel over the “golden week” holiday shows robustness: international flight booking volumes hit a post-Covid record and intercity mobility has surged.

According to the National Bureau of Statistics, the March consumer confidence index has shot up to a one-year high.

The stabilisation of China’s property market will also be a major boost for investor sentiment. At the latest Politburo meeting, policymakers indicated they intend to roll out more measures to reduce inventory and support sales.

The market will be watching for tangible results, although this is likely to be among the last segments of the economy to stabilise. We are seeing the first green shoots of re-accelerating growth in mainland China and Hong Kong.

Economic growth in both markets is exceeding expectations and global growth appears to be re-accelerating, even in the euro zone. For Hong Kong equities, the path has not been this clear for years.

A version of this article appeared in South China Morning Post on May 6, 2024.

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